Chapter 11 rehabilitation proceedings in Korea of a shipping company - Maritime and Transport Law Committee, July 2020
Sechang & Co., Seoul
Since 2008, nearly every notable shipping company in Korea and certain local shipyards filed for Chapter 11 rehabilitation procedure, namely, Samsun Logix and Daewoo Logistics in 2009, Korea Line in 2011, STX PanOcean in 2013, Daebo International Shipping in 2015 and STX Offshore and Hanjin Shipping in 2016. We saw Hanjin Shipping, then the world’s seventh largest container line, collapse and vanish from the global shipping market. The bankruptcy court procedure on Hanjin Shipping is still ongoing and is anticipated to last until the end of 2020 or early 2021. Contained herein below I describe and explain the detailed procedures of shipping company Chapter 11 rehabilitation proceedings under Korean law.
Upon filing of a petition with the reorganisation/rehabilitation court seeking bankruptcy protection (ie reorganisation/rehabilitation, similar to Chapter 11 rehabilitation under US law), the rehab court, in short order, issues its approval of the debtor’s filed petition (‘Rehab Start Order’).
The rehab Court will then issue a comprehensive preservation order (CPO) and payment preservation measure order (PPMO) on the same date as the filing by a debtor. The effect of the CPO and PPMO, respectively, is to provisionally prohibit all creditors from taking legal actions in Korea to secure or enforce their claims by attachment, arrest or foreclosing their security interests against the debtor and to prohibit the debtor from making any payments exceeding KRW10m (about $10,000) without first receiving the rehab Court’s prior approval. In other words, the CPO shall cause to stay or prohibit in Korea any and all provisional injunctions, attachments or arrests (or judicial sales by final judgement) against assets located in Korea (including bank accounts) of the debtor.Further, upon the issuance of the CPO/PPMO, any on-going legal proceedings in Korea (eg litigation or arbitration) shall become stayed where the debtor is the defendant (as opposed to being the plaintiff) in those legal proceedings. If the debtor is the plaintiff in such cases, then those legal proceedings in Korea shall be permitted to proceed.
In order to have cross border extraterritorial recognition of the Rehab Start Order or RSO and the CPO, the debtor files a Chapter 15 recognition (also known as stay order) petitions in each foreign jurisdiction where the debtor seeks protection. Those jurisdictions I understand would be the places where its assets were or could be located and where there is, or could be, litigation. To name a few, China, India and Panama are some notable jurisdictions, which do not grant Chapter 15 recognition, which means the debtor’s assets located there could be attached and kept attached. However, my understanding is that there is a recent movement for those jurisdictions, which did not grant Chapter 15 recognition previously, to now accommodate Chapter 15 recognition. (In the case of Hanjin Shipping, despite the issuances of such recognitions in numerous jurisdictions, the terminals and stevedore companies in many ports shunned away from Hanjin’s fleet, rendering its operations impossible).
On the date of the RSO, a Receiver is appointed by the rehab court to manage the affairs of the debtor in efforts to rehabilitate the business of the company, to avoid liquidation or bankruptcy. The authority to operate the business and to manage and dispose of the assets of the company and continue or terminate contracts vests in the Receiver, except as limited and supervised by the rehab court. (Once placed under Chapter 11, the company's board of directors is not allowed to manage the company, or to dispose of the company’s business or assets).
It is the duty of the Receiver to draft a plan of reorg/rehab and creditor payout distribution (‘Rehab Plan’) for presentation and approval by the creditors and shareholders of the debtor, and to the rehab court. If the plan is adopted by the creditors and shareholders and approved by the rehab court, the Receiver is responsible to carry out the plan. The consent from two thirds of unsecured creditors (eg owners/suppliers), three quarters of secured creditors (eg banks holding mortgages) and (only if total assets of company exceed its total liabilities) the majority of shareholders are required, so as to officially approve a rehabilitation plan. The Receiver will set a date for the first meeting of interested parties.
The secured creditors (like banks holding mortgages) are well protected under the rehab proceeding, where they usually receive the entire principal, plus approx. 5 per cent per annum interest. If they feel that they are not well protected, they can force the debtor to enter into liquidation bankruptcy (aka Chapter 7), where the secured creditors are protected in full, meaning that such creditors will likely receive full compensation for their claim, without discount/write-off. Please note that any unsatisfied secured creditors, with more than 25 per cent of the vote, can force the company into liquidation bankruptcy by simply casting ‘No’ votes to any rehab plan proposal tabled at creditors’ meetings.
The unsecured creditor (like suppliers/owners) claims are written off and split by yearly installments, which are up to ten years. In the initial shipping company rehab cases, the writing off ratios of unsecured claim amounts was usually 70 per cent and the rest, ie 30 per cent, was to be paid in installments over a ten-year span; and the companies issued new shares to the unsecured creditors to substitute for their written-off portions. However, such issuance of the shares is not required by law.
The problem unsecured creditors are facing under every rehab proceeding, is that if the debtor goes into liquidation bankruptcy, the payments to the unsecured creditors under such liquidation bankruptcy proceeding shall be far smaller than what they would have been paid under the rehab proceeding; as such, unsecured creditors shall have no leverage. This is the reason why unsecured creditors are forced to cast ‘Yes’ votes to the rehab plan proposal tabled at creditors’ meetings because if the Rehab Plan fails to be approved by the creditors, then the company would face liquidation bankruptcy.
In the Rehab Start Order issued by the rehab court, contained therein will be an absolute deadline date when all creditors (local or foreign) having a claim or potential claim against the debtor must file their ‘creditor claim statement’ (CCS) with the Receiver in order that the creditor and its claim be recorded as a ‘registered’ creditor and claim under the reorganisation/rehabilitation procedure. In this way, the creditor shall become a registered creditor entitled to attend and vote at the reorg/rehab meetings on the Receiver’s reorg/rehab plan and receive payouts thereunder.
If a creditor and its claim are not filed and ‘registered’ with the Court by the absolute deadline date indicated in the Rehab Start Order, then such creditor’s claim shall not be recognised by the Court as a payable claim.
It is often the case that the Receiver shall deny, without supporting reasons (entirely or partially), many filed CCSs, in which case the creditor must then proceed with objection procedures, known as ‘rehab claim inspections’ (‘RCI’), which proceedings usually involve several court hearings over a period of a few months. It is noted that Chapter 11 rehab procedure in Korea is adversarial in nature, potentially involving court hearings for the court to determine claim validity and quantum, where the debtor will initially, across the board, simply reject without reasons many filed claims, which would then require the creditor to invest resources and funds to dispute against such rejection.
The Receiver has the authority to choose either maintenance (ie performance) or termination of contracts executed prior to the commencement of the Chapter 11 rehab, ie, pre-rehab contracts.
If the Receiver were to decide to ‘maintain’ a contract (say, an equipment lease agreement), then the debtor is to pay the rent in full, as stipulated in the contract. In the event that the debtor were to default in making rent payments (after the Receiver had already decided to ‘maintain’ the contract), then the damages incurred by suppliers would be classified as ‘business as usual credits’ (also called ‘common benefit credits’, meaning such damages are not subject to discount or write off under the rehab proceedings).
If the Receiver were to decide to ‘terminate’ the contract, then the supplier is entitled to file damage claims in the rehab proceedings (‘rehab credits’); however, such damage claims shall be subject to large discounts and write offs under the rehab plan, as explained above.
In the case of Hanjin Shipping, the debtor’s Chapter 11 was far from smooth, and in February of 2017, the rehab court cancelled the Chapter 11 protection and issued a Chapter 7 liquidation bankruptcy order on Hanjin Shipping, formally closing down the nation’s biggest shipper. The court decision was inevitable, as Hanjin Shipping could not operate its fleet once its rehab proceeding hit the headlines and it lost its customer base and chartered ships were redelivered to the owners. The assets (cash) distributions under its liquidation bankruptcy proceeding is still ongoing and may likely extend to early 2021.